Ask the Experts: Why Do Health Care Costs Vary So Widely?

A report from the Centers for Medicare and Medicaid – the government agency that administers and oversees the disbursement of many federal health care benefits – has revealed that the amounts hospitals charge insurance providers often vary widely at the regional, state, and even hospital level.

The study examined the way in which more than 3,000 hospitals nationwide bill for the 100 most common types of inpatient stays – which together account for more than 60% of the market, according to the CMS.

Among the findings were some fairly stark pricing mismatches, including the following:

The average hip replacement can cost you anywhere from $5,300 (at a hospital in Ada, Oklahoma), to $223,000 (at a hospital in Monterey Park, California).

The average treatment for heart failure can vary by tens of thousands of dollars within the same city. For example, it can cost anywhere from $21,000 to $46,000 in Denver, Colorado and from $9,000 to $51,000 in Jackson, Mississippi.

The release of this information is part of a larger push toward greater cost transparency in the health care industry. The Department of Health and Human Services announced a three-part initiative on May 8 aimed at bringing consumers better information about what hospitals charge and, ultimately, making health care more affordable. The aforementioned report on hospital charges is part of this, as is a new funding for data collection centers and a $87 million grant for states to improve their rate review procedures and contribute to the fight toward transparency

“Currently, consumers don’t know what a hospital is charging them or their insurance company for a given procedure, like a knee replacement, or how much of a price difference there is at different hospitals, even within the same city,” HHS Secretary Kathleen Sebelius said in a press release. “This data and new data centers will help fill that gap.”

This uphill battle against industry opacity is much like what the credit card industry underwent in recent years. Banks were notoriously tight-lipped about their policies prior to the Great Recession, and often resorted to shady bait-and-switch practices – advertising promotional terms and then revoking them at the drop of a hat – as well as predatory pricing. That all changed with the CARD Act of 2009, however, which revamped a number of key consumer rights.

New legislation is unlikely when it comes to health care, at least under the current Congress, but funding and information are a good, not to mention, much-needed start. CardHub consulted a number of leading health care policy and law experts about the current state of health care pricing in this country, and the overarching sentiment seems to be that while health care accounting is undoubtedly a mess, there are no easy solutions.

“In order to have a good regulatory structure, you need to have a good definition of what the product is,” James Blumstein, Director of the Vanderbilt University Health Policy Center, said. “It’s like on an airplane – you start billing for food, you bill for drinks, you bill for this. It’s called charging for ancillaries. … With a hospital, there’s so much more flexibility. How much of the director’s salary is going to be allocated to a particular matter and what is the matter? How many gauze bandages can you bill for? Can you bill for extra time for electricity?”

With that said, let’s turn things over to the experts in earnest. You can check out what they have to say on matters ranging from what to make of the new CMS data to what the future holds for healthcare pricing and, ultimately your wallet below. After all, “the issues eventually always come back to the patients,” according to Blumstein.

You can also read the Takeaways section that follows for a quick synopsis of the CMS findings and experts; opinions.

Expert Opinions – Health Care Costs and Transparency

Archish MaharajaAssistant Professor of Global Management and Organization, Director, Master of Business Administration Program, Point Park University

Archish Maharaja

Assistant Professor of Global Management and Organization, Director, Master of Business Administration Program, Point Park University

Data from the Department of Health & Human Services indicates that the same procedure can vary in cost by tens of thousands of dollars, depending on where it's done (costs vary on the city, state, and even hospital level). Why do you believe that is the case?

This is the case as each provider/facility does not follow same criteria as to what to charge each patient since reimbursement by each insurance company is also not the same. Every insurance company bases what they pay based on RBRVS Schedule. So each insurance company could pay different amount for different procedure. Hence to maximize the reimbursement providers charge different amount.

How should we correct this market discrepancy (if, in fact, we need to do so)?

If insurance companies have different reimbursement rates I am not sure that this can be or should be done, looking at it from the provider/facility point of view.

How will this issue play out in the days, weeks, and months to come?

I am sure there will be discussion on the issue, but the only way it can happen is if every provider/facility gets paid the same regardless of size or other contractual conditions.

Are there any laws that cap the cost of certain procedures and/or protect patients from outrageously high bills?

I am not familiar with it because cost is dictated by medical condition and it should not be capped by law. Otherwise we may not get the best quality of care.

Uma Kelekar

Assistant Professor of Health Care Management, Marymount University

Data from the Department of Health & Human Services indicates that the same procedure can vary in cost by tens of thousands of dollars, depending on where it's done (costs vary on the city, state, and even hospital level). Why do you believe that is the case?

Under Medicare, physicians get reimbursed based on a fee-for-service basis (i.e. get reimbursed for every procedure that they perform).

Reimbursement for physicians is determined based on the resource-based relative value scale (RBRVS) approach. This approach uses three different components: work (technical skill and physical effort), practice (direct and indirect facility or non-facility expenses) and malpractice liability (MP) (professional liability) in order to determine how much a physician should get reimbursed for a procedure. Further, each of these components is adjusted for GPCI’s, or Geographic Price.

If you are interested in the formula: [(RVUwork * GPCIwork)+(RVUpe * GPCI pe)+(RVUpli *GPCI pli)]*CF. So if you look at this formula, the relative value units for every procedure do not change (except for the practice component which varies based on whether the procedure is carried out in a doctor’s office or not, the former being associated with higher costs borne by the physician) based on the geographic location. What changes are the GPCI’s across locations, primarily because the costs associated with work, practice and liability change across locations. So differences on the city, state levels are expected and justified. These are reviewed and adjusted at least every three years.

The RVUs are converted into a dollar amount by using a conversion factor that is tied to the growth rate of the nation’s economy that is measured by GDP. This adjustment is necessary and ensures that the total per capita spending for physician payments does not grow faster than the growth in the GDP. The conversion factor is determined by the CMS and does not vary across locations.

Therefore, although the payment is based on a formula, the differences arise because the physicians continue to get reimbursed on a fee-for-service basis, an approach that is linked to the volume of procedures carried out. So if two hospitals in the same region are billing for a different number of procedures, the costs for one surgery will vary. Therefore, a lot of the variation may stem from the fact that physicians across the country have different practice patterns.

How should we correct this market discrepancy (if, in fact, we need to do so)?

There are new payment or care delivery models that are shifting from a fee-for-service approach to Accountable Care Organizations (ACOs), bundled payments and value-based payment modifiers. These models will see changes in the payment of physicians based on value (determined based on quality metrics) instead of volume.

There have been several proposals made (for instance, MEDPAC and Bowles-Simpson Commission) of freezing/reducing payment rates for specialists through 2021. However, these proposals were not received well by many physician groups. According to the most recent extension, enacted by Congress on January 1, 2013, Medicare physician fees will not change through the end of 2013.

Primary care physicians will receive higher reimbursements in the form of bonuses. Primary care physicians' Medicaid reimbursements for evaluation and management services and vaccinations are being raised to Medicare rates in 2013 and 2014.

How will this issue play out in the days, weeks, and months to come?

Section 3007 of PPACA provides value-based payment modifiers (penalty) that will adjust physician reimbursements based on the quality of care under the Medicare Physician Fee Schedule during a performance period. This will lead to differential payments to a physician or a group of physicians. In other words, cut-offs might apply to the acceptable physician costs. Some believe that this might compromise the quality of care given to patients in the years to come. The value modifier might be calculated using the quality tiering methodology. Quality of care may be reported through the physician quality reporting system, a system that a group of physicians might choose to participate in.

Are there any laws that cap the cost of certain procedures and/or protect patients from outrageously high bills?

In the 2012 Medicare Physician Fee Schedule Final Rule, CMS finalized a policy to apply the multiple procedure payment reduction (MPPR) to the technical component (TC) and professional component (PC) of the second and subsequent studies of certain advanced imaging procedures (i.e, CT, MRI, and ultrasound) provided to the same patient in the same session by a single physician, or multiple physicians, in the same group practice (the latter part was passed later in the 2013 Final Rule). The Multiple Procedure Payment Reduction also applies to other services such as therapy, cardiovascular and ophthalmology diagnostic tests. However, this law if applied to the technical and professional component should not cause any variation of costs across the country.

Gabriel Picone

Associate Professor of Economics, University of South Florida

Data from the Department of Health & Human Services indicates that the same procedure can vary in cost by tens of thousands of dollars, depending on where it's done (costs vary on the city, state, and even hospital level). Why do you believe that is the case?

Yes, there is a great geographical variation in the cost of medical procedures that cannot be explained by demographic factors and cost of living factors.

There are many theories, but we don’t know for certain. You must be aware that it is very difficult to know the exact amount of money that a hospital receives for a procedure. Insurance companies pay a fraction of what the hospital charge.

How should we correct this market discrepancy (if, in fact, we need to do so)?

If we don’t really know the causes, it is not possible to correct for these price disparities. More transparency on actual prices charged to different consumers should help, but I am not sure whether is possible to implement such a law.

Timothy Jost

Professor in the Washington & Lee University School of Law and Author of the widely-used Health Law casebook

What do you make of the CMS’s findings?

Just comparing charges from different hospitals doesn’t really tell you what, in fact, is being paid. It would certainly seem to be the case that if you have a hospital that is treating much sicker patients or patients with a lot of complications, the probably would be charging more for the same general services than a community hospital that basically had patients that could be treated quickly and released. I think those are important factors.

On the other hand, I think that it certainly tells us that charges vary tremendously from region to region, probably in ways that don’t exactly reflect the difference of cost in different regions. It’s always been that way.

One reason is certainly that it varies based on competitiveness within a region. … Probably another factor might be how competitive the insurance market is and how much the insurance companies were forced to get hospitals to compete with each other. But it’s also the case that if you have a hospital that has a very good reputation – deserved or not deserved – for being the best hospital in the area, they can often charge much higher rates as well.

James Blumstein

Director, Vanderbilt Health Policy Center

What do you make of the CMS’s findings?

I think there are differences in cost structure across hospitals. It’s unsurprising that certain kinds of hospitals – teaching hospitals – will have cost structures that vary from other kinds of hospitals : non-profits, for-profits. So, the disparity –if one is to believe there is one – is pretty eye opening. We don’t know whether there is a difference in case mix, which is always the researchers’ concern here as to whether it’s an apples-to-apples comparison. I don’t believe that government data really answered that question. So, I think it may not be as big as projected there, but it is substantial. I think the case mix adjustments are not likely to take away all disparities, and I think some of the disparities relate to cost structure and competitiveness within the hospital.

Now, why hospitals insist on driving up the charge rate is partly enigmatic in a sense that very few patients pay the ‘rack rate,’ or the charge rate. Some hospitals sometimes try to exact this out of those who don’t have insurance, but that’s 6-8% of the market normally. So, I think some of it is strategic gaming. The way hospitals negotiate at least with private payers is percentage discount off the rack rate, and to the extent that the buyer doesn’t know what the data are, that becomes kind of a gaming strategy. Every time you go to a sale, you wonder if the price was jacked up or not, right? So I think having the light of day on this is eye-opening and gives the insurance companies and self-paying employers the ability to have a more constructive negotiation.

The issues eventually always come back to the patients… Yes, patients should care about this, but it’s an indirect thing. I think the first line of concern is with the direct buyers – the employers who are contracting with the hospitals, or more typically, the insurance companies which are contracting. And I think it does raise considerable issues about accountability and openness – transparency is the current word – about these processes

Gwendolyn Majette

Assistant Professor of Health Care Law at the Cleveland State University College of Law

What do you make of the CMS’s findings?

The use and purchase of health care services is unlike other services. Health care is one of the few services that individuals receive without knowing the price in advance. This is because many people use some type of insurance to purchase these services. It is also because health care is ‘special.’ Receipt of health care can prevent death, serious illness, disability, and the spread of contagious diseases. Thus there is a desire to not allow costs to prevent receipt of necessary care.

The mere fact that CMS is collecting and publishing this data will affect future prices because consumers, regulators, and researchers can use the information to comparison shop and begin to investigate further the reasons for the price variation. Additionally, the hospitals themselves now know what their competitors’ prices are and they will have to justify the prices they charge in the future. Antitrust laws preclude hospitals from sharing their prices with each other.

What does the future hold for health care pricing?

Health care costs in the United States are high. We spend a significant portion of our gross domestic product on health care yet we do not have better health outcomes that other industrialized countries that spend less. The largest percentage of the spending is for hospital care. Thus to lower costs, we must focus on making this segment of the health care sector more efficient.

PPACA [the Patient Protection and Affordable Care Act] requires hospitals to disclose their charges annually. This information is critical to the work of other features in the health care reform legislation that are designed to control health care costs such as the Independent Payment Advisory Board (IPAB). IPAB is a presidentially appointed 15-member board of experts tasked with making recommendations to slow the growth of Medicare costs if they are projected to exceed a specific target level. If Congress does not pass any legislation, then the IPAB recommendations become law. It is also tasked with providing an annual report on cost, access, quality, and utilization of healthcare services for Medicare and private payers. Finally, IPAB is tasked with submitting a report every two years, beginning in 2015, to make recommendations to curb the growth of private health care costs nationally.

We will continue to see efforts flowing from PPACA, new legislation, private sector initiatives, and research to control the cost of health care in the United States.

Mitchell Glavin

Assistant Professor of Healthcare Administration at Stonehill College

What do you make of the CMS’s findings?

The data release from the Department of Health & Human Services refers to what hospitals submit as their charges, but this are not the costs that Medicare actually pays. Hospital charges are kind of like list prices for medical care services, but the amounts actually paid to hospitals by private health insurance plans, Medicare, and Medicaid are typically much less (they are more or less retail prices). List prices are only paid by patients coming from other countries (medical tourists, often wealthy) or Americans without a health insurance policy (some very wealthy folks, but mainly lower-income folks or those excluded from coverage due to pre-existing medical conditions). Yes, you read that right, poorer folks without health insurance or lousy insurance are sometimes billed for (and expected to pay for) services at the very highest list prices.

How did we arrive at this point where health care prices vary so drastically?

In the 1980′s Medicare moved to the prospective payment system whereby Medicare was no longer used the cost-plus methodology, but was now essentially paying a uniform national rate for each type of hospitalization. In effect, Medicare would pay any U.S. hospital a flat fee of say $4,500 for an inpatient stay for an appendectomy. The fee paid by Medicare would be the same no matter how many drugs and tests were used to care for the patient and no matter if the patient stayed in the hospital 3 days, 5 days, or 9 days.

The Medicare payment was adjusted for certain factors such as a bonus if the hospital was located in a more expensive high-wage area, if the hospital had a high percentage of Medicaid and uninsured patients, and if the hospital was involved in teaching a lot of physicians-in-training. So, for Medicare the list prices charged by hospitals lost much of their meaning and relevance. At the same time, private health insurance plans moved to adopt their own prospective payment schemes, or negotiated significant discounts off of the list prices or bundled payments for hospital care into the total services provided to plan members via managed care plans.

The end result since the 1980′s has been that very few insurance plans, both the private plans (which most Americans have via their place of employment) and the public programs (Medicare, Medicaid, CHIP), were paying anything close to 100% of hospital charge amounts.

Richard Alderman

Director of the University of Houston’s Consumer Law Center

What do you make of the CMS’s findings?

Few consumers shop for health care. Unlike most providers of goods or services, health care providers are often able to set a price without regard for the market. Consumers rarely ask questions about the cost of health care.

What does the future hold for health care pricing?

I think it needs to be “corrected,” by establishing a truly competitive market. This may be difficult because many consumers believe they don’t pay for health care, insurance pays for it, and consumers are often afraid of even asking questions about cost because they fear it may affect the quality of care.

Hopefully, it will play out through greater education and information, and perhaps some degree of competition among providers. We need to do something to lower the cost of health care in this country.

While differences in the prices that hospitals charge for certain services are revealing, the average person typically doesn’t pay anywhere close to full freight.

The health care industry is, however, marred by important underlying accounting issues.

Initiatives led by the U.S. Department of Health and Human Services will help provide the information necessary to evaluate pricing practices as well as devise a solution for making the industry both more transparent and less expensive.

Our content is intended for general educational purposes and should not be relied upon as the sole basis for managing your finances. Furthermore, the materials on this website do not constitute legal advice and should not be relied upon as such. If you have any legal questions, please consult an attorney. Please let us know if you have any questions or suggestions.